Practice Tips: Law firm mergers 101

by Dave Bilinsky, Practice Management Advisor

One thing about lawyers — they group; and then once that is done, they split and re-group.

A law firm merger can mean a small group of lawyers coming together or a large, complex multi-firm merger. In each case, however, the basic issues are the same — what are the benefits and potential pitfalls of joining together? How do you conduct the discussions to concentrate on the business fundamentals? How do you conduct your due diligence and not be overly influenced by one or two factors? What are the expected outcomes once the merger is over? What must you deal with before, during and after the merger is approved?

Hildebrandt International, in conjunction with the American Bar Association, has just published the third edition of Anatomy of a Law Firm Merger — How to Make or Break the Deal. For firms of any size that are considering joining together, this book is a detailed examination of the critical issues in the merger discussions. It runs through the substantive steps to be taken and, most importantly, explains how to put your own house in order prior to being accepted as a serious merger candidate.

Chapter 1 "Why Law Firms should consider Merging" is an examination of the right and wrong reasons to consider a merger. Some of the right reasons are to:

  • enhance the firm’s competitive position;
  • add complementary practices or services;
  • increase or diversify the client base.

Some of the wrong reasons are to:

  • control expenses or solve economic problems;
  • deal with underproductive or problem partners.

Chapter 2 "Strategic Merger Assessment" emphasizes the importance of undertaking an assessment of your own people, practice, clients and opportunities in order to understand your firm’s needs from a strategic standpoint. This assessment addresses several issues, some of which are to help develop the business case for the merger and identify and correct internal weaknesses, including those that may be obstacles to the merger.

Chapter 3 "Initiating the Merger" helps identify potential merger candidates and explores the advantages and disadvantages of doing it yourself versus using a consultant as an intermediary. It also covers how to conduct the first meeting between two firms and how to develop a strategic merger checklist and timetable. Samples are included on the CD-Rom that is included with the book. The strategic merger checklist itemizes and sets out a schedule of activities.

Chapter 4 "Evaluating the Merger" delves in the heart of the merger: how to establish the merger committees, identify the key issues and flag all potential deal-breakers. Some of the key issues are:

  • the firm name;
  • the economic issues underlying the merger;
  • partner compensation;
  • legal structure of the new organization;
  • management structure of the new organization;
  • practice philosophies (billable hour expectations and the like).

Some of the potential deal-breakers are:

  • partner policies (expenses, outside activities);
  • work ethics;
  • underproductive partners;
  • associate management.

Chapter 5 "Historical Financial Analysis" goes into the analysis of the financial data that must be undertaken prior to the deal. Most importantly, this chapter lists 15 typical benchmarks and how to use them to test for financial strength and identify potential problem areas. Examples of financial benchmarks that should be scrutinized are:

  • fee revenue per equity partner;
  • net income per partner and partner compensation (including benefits, allowances and perks) and pension contributions;
  • expenses and overhead per lawyer;
  • leverage ratios;
  • realization rates for billings and collections.

Chapter 6 "Developing the Pro Forma Projections" explains why you should develop future financial projections and how to do so. These projections include the Income Statement: revenue (expected change in billable hours, rates and realization after the merger), change in the number of lawyers (since not all lawyers will stick around for the merger) and expenses (salaries, benefits, other costs), among others. The Cash Flow Statement shows the impact of the merger on the cash position of the new firm, incorporating adjustments for depreciation, purchases of fixed assets, bank borrowings or repayments, partner capital contributions and partner withdrawals of capital.

Chapter 7 "The Economic Balance Sheet" goes into a primarily US-based analysis on use of a modified cash-based method of accounting. However, the comments on capturing off balance sheet items and ensuring consistency in the approach to assembling the balance sheet is of interest to all law firms.

Chapter 8 "Getting to a Decision" explores the issues in getting information to the partners (as the merger process would most likely be left to a committee), how to build and present the merger notebook, how to schedule the vote and how to build the merger agreement.

Chapter 9 "Integrating the Firms" takes the process from the point of the positive vote to merge and looks at building the business integration plan, developing new culture and establishing new leadership and management of the firm. Emphasis is placed on strong leadership and the effective use of communication, consensus-building, tolerance and opportunities for input. Also important is outreach by management "walking the halls" and marketing the firm after the merger.

Chapter 10 "Integrating Administration and Technology" covers blending the administrative procedures and staff of the new firm and integrating the information technology platforms of the prior firms.

The last third of the book is composed of checklists and precedents for use in the merger process.

Anatomy of a Law Firm Merger – How to Make or Break the Deal is a "must read" for any firm considering merger discussions and seeking a better understanding of the full range of issues and options. Check it out.